The Key To Effective Project Financing
Funding is at the heart of every real estate project. In my previous article I discussed the disparity of financial benefits between direct cash investment and bank financing. Profit is maximized when bank financing can be obtained, so positioning your project so that it can achieve bank financing has a direct impact on your bottom line. Professional documentation can also have a direct impact on your bottom line, as it can enhance the financial terms and rates that lenders are willing to offer, making your project more or less profitable.
So, how can you best position and structure your project to achieve effective bank financing and improve profitability? Following is a summary of what we consider to be “the key to effective project financing”.
Create a professional plan
Describe your real estate project with a concise and professional document. This will help save time in the underwriting process, and provide a clear understanding to underwriters and bank representatives so that they can more easily facilitate and support your funding request. While projects vary in type, size, structure and scope, the following elements should be included in most plans:
- Executive summary – Typically a 1-2 page narrative description of the project outlining the basic details and financial highlights.
- Location details – Describe and illustrate the location, specifics and advantages of the project site and area.
- Visual illustrations – Site survey, site plan, elevations, floor plans, renderings and other material that can help visually describe the project.
- Financial Pro Forma – Demonstrate the uses of funds, sources of funds, project costs, operating projections, cash flow and all other financial details of the project in a professional manner that can be easily interpreted by bank representatives and underwriters. We recommend preparing a 1-page financial summary of the project in addition to the intricate details.
- Capitalization Plan – Narrative that summarizes the funding structure, strategies and approaches of funding the project.
- Market Study – Demonstrate the current and projected value of the project. Describe market, sales and/or lease trends, competitive environment, supply and demand factors, and other market conditions.
- Team Bio – Describe the project team and discuss their education, experience and contribution to the project.
- Attachments – Purchase agreement, leases, architectural drawings, bids, contracts, and other supporting documentation.
Your plan is stronger and more effective when you include third-party validation to the lender. This can also help facilitate the underwriting process and make your project more favorable to the lender. Third party validation can be demonstrated in the form of various documents that are provided to your lender, including:
- Comparative market analysis – Demonstrates the viability of the proposed sales and/or leasing strategies.
- Project feasibility analysis – Demonstrates the viability of estimated project costs, revenues, expenses, cash flow and operating projections of the project.
- Market feasibility analysis – Demonstrates the viability of the project given market trends, supply and demand, absorption rates, propensity of sales and other market factors.
- Appraisal – Demonstrates the current and/or future value of the project.
Find the right funding sources
When your project is ready to be presented, start with contacting your local banks, then search for regional and national lenders that fund similar types of projects. Make sure you understand their financing programs and ensure that the financial details of your project wall within the lenders’ general financing parameters, such their loan-to-cost ratio (LTC), loan-to-value ratio (LTV), debt service coverage ratio (DSCR), internal rate of return (IRR), return on investment ratio (ROI), capitalization rate, and such.
Present your plan professionally and close the deal
In my experience, a professional multimedia presentation always enhances the ability to obtain funding. You can simply provide paperwork to your lender; or you can meet with the lender in person, professionally present your project, then provide the professional documentation at the meeting. The latter is always preferred over the former. Be prepared to answer questions concisely and to provide back up data and documents that validate your assumptions.
Follow up regularly to ensure your loan request is effectively processed. If and when an initial term sheet or letter of intent is provided by the lender, have an attorney review thoroughly and work directly with the lender to consummate a loan agreement and close the deal.
Other potential funding sources for your project can include private equity investors, hard money lenders, joint venture partnerships, private placement memorandum investments (PPM), and other sources that can be included within the financial structure of your project to assist in meeting the equity and guarantee requirements of lenders. My next article will discuss equity-raising strategies that can help reduce risk and exposure, and can expand funding possibilities for your project.